Bloomberg News

G-20 Asks IOSCO to Assess Default Swap Impact on Bond Prices

November 05, 2011

Nov. 4 (Bloomberg) -- Leaders of the Group of 20 biggest industrialized and emerging economies called on international bank regulators to examine the effect of credit-default swaps on bond prices.

The G-20, in a statement today issued from their meeting in Cannes, France, asked the International Organization of Securities Commissions “to assess the functioning of credit- default swap (CDS) markets and the role of those markets in price formation of underlying assets by our next Summit.”

The study will follow a series of investigations into the derivatives that have been blamed for exacerbating financial crises. G-20 leaders agreed after 2008 to implement broad financial regulation principles by the end of 2012.

The European Union last month moved closer to banning the use of credit-default swaps on government bonds for any reason other than hedging risk. German Chancellor Angela Merkel and French President Nicolas Sarkozy had pressed the EU to curb speculation, arguing it exacerbated Europe’s debt crisis.

Germany unilaterally banned some swaps in May 2010, even after the nation’s financial regulator BaFin said in March of that year it found “no evidence” that credit-default swaps were being used excessively to speculate against Greek bonds.

The ban failed to achieve the government’s aim of keeping asset prices from falling and “market efficiency and quality in fact deteriorated substantially,” the International Monetary Fund said in an August 2010 report.

Naked Swaps

In the U.S., regulators and Congress rejected a proposed ban on so-called naked swaps, with House Financial Services Committee Chairman Barney Frank saying “there was concern that a broad grant to ban abusive swaps would be unsettling,” and U.S. Treasury Secretary Timothy F. Geithner saying he doesn’t think such a measure would have merit. Naked swaps are those that may not reference an underlying asset.

Rules under the Dodd-Frank Act require most credit-default swap trades to be backed by clearinghouses. Enacted last year by President Barack Obama, the Act aims to reduce risk and boost transparency in the swaps market after largely unregulated trades helped fuel the 2008 credit crisis.

Clearinghouses, which are capitalized by their members, guarantee trades by standing between buyers and sellers. Credit- default swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent should a borrower fail to adhere to its debt agreements.

--With assistance from Rebecca Christie in Cannes and Ben Moshinsky in London. Editor: Michael Shanahan, Paul Armstrong.

To contact the reporter on this story: Abigail Moses in London at Amoses5@bloomberg.net

To contact the editor responsible for this story: Paul Armstrong at Parmstrong10@bloomberg.net


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